FINANCIAL CONDUCT AUTHORITY (FCA)
Coronavirus and safeguarding customers’ funds: proposed guidance for payment firms
Our comments are based upon consultancy and operational engagements with payment service providers (PSPs) and insights gained anecdotally from involvement more generally with the industry.
Our comments are also shaped by public domain material relating to the administration proceedings relating to Ipagoo LLP (which traded as ipagoo).
Remittances to overseas families are a legitimate use of PSPs particularly by the socially excluded.
The current environment places this legitimate use of PSPs under stress
PSPs should plan for these stresses and be adequately capitalised.
The firm’s research and other publications on PSPs are appended to these comments.
1. ‘Do you agree that we should provide additional guidance on safeguarding, managing prudential risk, and wind-down plans? If not, please explain why.’
Some firms in this sector lack basic operational disciplines and fail to understand the concept of safeguarding.
2. ‘Do you agree with our proposed guidance on safeguarding? If not, please explain why.’
The guidance is clear and concise.
PSPs need to understand and apply the basic concept and disciplines relating to the safeguarding of ‘relevant funds’ (client money).
Keeping records and accounts and making reconciliations
These are all basic operational disciplines.
Lysis endorses the guidance that a firm should be able to identify ‘relevant funds’ ‘at any time and without delay’.
Recent events relating to Ipagoo LLP (in administration) are still before the Court because of an inability to identify ‘relevant funds’.
Documentation of process and its rationale are essential disciplines.
Safeguarding accounts and acknowledgement letters
The proposed acknowledgement letter is a welcome development which should be adopted by all participants without alteration or delay.
It should be the industry standard.
Firms should consider reviewing relationships with safeguarding credit institutions and custodians who are unable to provide an acknowledgement letter in those exact terms.
Selection, appointing and reviewing third parties
These are all basic operational disciplines endorsed by Lysis.
Periodic and event driven reviews of third parties are essential for the safeguarding process to be meaningful.
When the safeguarding obligation starts
This guidance provides welcome clarity to electronic money institutions (EMIs) that only the individual client’s funds can be applied to that client’s payments.
There should be no co-mingling with safeguarded or other funds (which would amount to an extension of credit).
Although unallocated funds are not ‘relevant funds’, the guidance is that those funds ‘should be protected according to Principle 10 of [the FCA’s] Principles for Business’.
This must be correct.
Unallocated funds should be identified intra-day where possible and placed in a suspense account. They should not be treated as ‘own funds’.
Functionally, unallocated funds should be treated in effect as ‘relevant funds’.
This means clear segregation from the PSP’s own funds until the funds are either:  refunded by the PSP to the client or  the payment service is provided (when the unallocated funds become ‘relevant funds’).
Considerable anecdotal experience is that some PSPs (not all of them new entrants) are unable to identify unallocated funds promptly and remit them as promised or refund them.
Anecdotal evidence is that tracing and the refund process can take over a month even when the PSP has received cleared funds through the Faster Payment Service (FPS).
Further anecdotal experience is that some PSPs are unable to refund electronically client funds received from large UK credit institutions (for example, using the FPS).
In these instances, some PSPs refund using transaction codes that require the physical collection of cash (actively discouraged in the current environment) by the client from merchants.
Many of these merchants are either closed in the current environment or lack the funds to make the refund. PSP clients who remit electronically using conventional channels should not have to travel to physically recover a refund in cash.
PSPs (by their nature) must be able to refund promptly using the FPS or similar payment system.
Annual audit of compliance with safeguarding requirements
This is a basic governance discipline.
The interim guidance should expressly state that the selection of an auditor for this purpose need not be an accountant.
The guidance should state that a ‘proposed auditor [with] sufficient skills, resources and expertise’ in this field need not be an accountant or statutory auditor who may lack those skills.
Operational and other consultancies may or will have the required skills.
Small payment institutions
Small payment institutions (SPIs) should have to comply with the safeguarding regulations but be able to opt out not opt in as proposed.
Safeguarding is a basic operational discipline which does not impose onerous duties.
SPIs that opt out of the safeguarding provisions should draw this to their clients’ attention in unambiguous terms, for example wording to the effect that -
‘The money that you have entrusted to us is not protected by safeguarding principles’
Disclosure to customers on treatment of funds on insolvency
Consumer Protection from Unfair Trading Regulations 2008 (the 2008 regulations)
Financial Services Compensation Scheme (FSCS)
Lysis agrees with FCA’s view on the 2008 regulations.
The interim guidance does not go far enough.
A PSP should state in unequivocal terms (where relevant) that client funds are not protected by the FSCS.
3. ‘Do you agree with our proposed guidance on managing prudential risk? If not, please explain why.’
The guidance is clear and concise.
Prudential risk management
Governance and controls
All but SPIs should appoint an accountable person for ensuring that ‘robust governance arrangements’ are detailed and reviewed periodically.
Lysis agrees on the need to deduct intra-group receivables from own funds.
Liquidity and capital stress testing
PSPs need to document and schedule this process –
‘Firms should carry out liquidity and capital stress testing’ to ensure ‘they can continue to meet their conditions of authorisation and own funds requirements’.
The failure of Ipagoo LLP (in administration) underscores the need for firms to have access to committed credit lines and for firms not to include uncommitted intra-group credit lines.
Uncommitted credit lines are of no value any more than the promise of future funding rounds for FinTech PSP start-ups which are already operational.
4. ‘Do you agree with our proposed guidance on wind-down plans? If not, please explain why.’
The guidance is clear and concise.
This deals with resolution matters on liquidation
FCA should ensure prior to authorisation that a firm has expertise or access to expertise in detailed resolution planning.
Lysis considers that merchants should perhaps have their own plans to find alternative providers in the event of a PSP entering administration or similar.
It is unclear that this is a responsibility that should be taken on by a PSP.
The risk should be highlighted and documented in the process of merchant acquisition by a PSP.
12 June 2020
Lysis Financial Limited
Relevant research and publications
by Lysis Financial Limited
The anatomy of money laundering risks associated with PSPs and how to mitigate them
FCA initiative on PSPs
FCA targets payment firms with latest proposed guidance
COVID-19: the impact on regulatory operations and payments within the financial services industry
Key elements of an effective AML framework for PSPs
Payment service providers (PSPs): how to mitigate the risks of money laundering
Money laundering risks associated with payment service providers (PSPs)
The anatomy of money laundering risks associated with the PSP industry and how to mitigate them
Lysis Financial Limited (Lysis)
Lysis (part of the Lysis Group) is a specialist firm that provides consultancy and operational services to payment service providers.
These services are also provided to financial institutions as well as to other ‘relevant persons’ subject to the Money Laundering Regulations 2017 (as amended) [TG1] and related legislation.
Lysis has traded since 2002 and has offices in the City of London, Dublin, Edinburgh, Frankfurt, New York City and Paris.